Thanks!

Here’s a little math lesson (I won’t bother with formulae, but I did use them).

Let’s say I have a credit card balance of $5000 at 10% interest. Assuming I want to pay it off in 3 years (general rule companies use to calculate your minimum payment), I will need to make a monthly payment of $161.34.

Assume at the time I start paying off my credit card debt I have $500 in savings. Let’s say I make a monthly contribution of $70 to my savings account, which has a 6% APR accrued monthly (you’re more likely to see quarterly, but for arguments sake we’ll assume we have a very generous bank). Thus in 36 months, I will have contributed $3020 of my money to savings.

If I stick with this strategy, I will pay the credit card company $5808.24 in total. I will have $3366 in savings with interest growth. I have paid $808 in interest to the credit card company and earned $346 from the bank. My net personal loss is $462.

Now, let’s say instead that I put that $70/month towards my credit card bill for a monthly payment of $230.72. It will take me only 2 years to pay the balance down to $0. In that 2 years, my $500 savings account has grown to $564. Then for the remaining year I put $230 into my savings account (this will round out the 36 month period – we’re comparing apples to apples now). Thus in 36 months, I will have contributed $3260 of my money to savings.

With this new strategy, I will pay the credit card company $5706.18 in total. I will have $3450 in savings in interest growth. I will have paid $706 in interest to the credit card company, earned $190 from the bank AND KEPT $102 for a net loss of $414.

So by paying down credit card debt before contributing to savings, your net loss is decreased AND you will have more money in savings in the long run (in this case you have $84 more in the second scenario than in the first).

So if you have extra cash, put it toward paying your credit card bill faster. Once your credit cards are paid off, then worry about savings. “But what happens if I need that $50 that I put towards my credit card bill in the event of an emergency? It’s not in savings!” you ask. You still have access to that $50, just through your credit card (this is assuming of course that you’ve hung up the credit card already, so your credit limit is now your emergency fund cushion).